The Indian Financial System

Meaning of the Financial System

A set of sub systems of financial institutions, markets, instruments and services

Intermediates with the flow of funds between savers and borrowers.

Facilitates transfer and allocation of scarce resources efficiently and effectively

Indian Financial System

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Indian Financial System

Formal (organized Financial system)

Regulators;MoF, SEBI, RBI, IRDA

Financial Institutions

(Intermediaries)

Financial Markets

FinancialInstrument

Financial Services

Informal(Unorganized

financial system)

Money lenders,Local bankers,

Traders

Formal and Informal Financial System

• The financial systems of most developing countries are characterized by co-existence and co-operation between the formal and informal financial sectors.

• The formal financial sector is characterized by the presence of an organized, institutional and regulated system which caters to the financial needs of the modern spheres of economy.

• The informal financial sector is an unorganized, non-institutional and non-regulated system dealing with traditional and rural spheres of the economy.

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Organised and un-orga

Non- Organized Organize

d Money lenders

Local bankers

Traders

Landlords

Pawn brokers

Chit Funds

Regulators

Financial Institutions

Financial Markets

Financial services

Organized Indian Financial System

Money Market Instrument

Capital Market Instrument

Forex Market

Capital Market

Money Market

Credit Market

Primary Market

Financial Instruments

FinancialMarkets

FinancialIntermediarie

s

Secondary Market

Regulators

Regulators

Financial Institutions

Financial Markets

Financial Instruments

Financial Services

Components of the Financial System

Regulators

• The formal financial system comes under the regulations of the ministry of finance (MOF), reserve Bank of India (RBI), Securities and Exchange board of India (SEBI) and other regulatory bodies.

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Financial Institutions

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Financial Institutions

(Intermediaries)

Banking Institutions

Non-Banking Institutions

Mutual Funds

Public sector Private Sector

Insurance and

Housing Finance companies

Types of Financial Institutions

Banking: creators and purveyors of credit.Types

Commercial Banks Cooperative Banks Non-banking: purveyors of credit

TypesDevelopmental financial institutions

Mutual funds Insurance companies NBFCs

Functions of Financial Institutions

Provide three transformation services

Liability, asset and size transformation

Maturity transformation

Risk transformation

Financial Markets

Types Money Market – A market for short-term debt

instruments

Capital Market – A market for long-term equity

and debt instruments

Segments Primary Market – A market for new issues

Secondary Market – A market for trading

outstanding issues

Link Between Primary and Secondary Capital Market

A buoyant secondary market is indispensable for the presence of a vibrant primary market.

The secondary market provides a basis for the determination of prices of new issues.

Depth of the secondary market depends on the primary market.

Bunching of new issues affects prices in the secondary market.

Why Capital Markets Exist• Capital markets facilitate the transfer of

capital (i.e. financial) assets from one owner to another.

• They provide liquidity.– Liquidity refers to how easily an asset can

be transferred without loss of value.

• A side benefit of capital markets is that the transaction price provides a measure of the value of the asset.

Role of Capital Markets• Mobilization of Savings &

acceleration of Capital Formation• Promotion of Industrial Growth• Raising of long term Capital• Ready & Continuous Markets• Proper Channelisation of Funds• Provision of a variety of Services

Financial Instruments

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Financial Instruments

Primary Securities

Equity,Preference

shares, Debt

Secondary Securities

Time deposits,MF units

Insurance policies

Financial Services

Major Categories Funds intermediation

Payments mechanism

Provision of liquidity

Risk management

Financial engineering

Key Elements of a Well-functioning Financial System

A strong legal and regulatory environment

Stable money

Sound public finances and public debt

management

A central bank

Sound banking system

Information system

Well-functioning securities market

Indian Financial System – An Overview

PHASES

* Upto 1951 Pvt. Sector

* 1951 to 1990 Public Sector

* Early Nineties Privatisation

* Present Status Globalisation

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Pre 1951

1. Control of Money Lenders2. No Laws / Total Private Sector3. No Regulatory Bodies4. Hardly any industrialization5. Banks – Traditional lenders for Trade and that too short

term 6. Main concentration on Traditional Agriculture 7. Narrow industrial securities market (i.e. Gold/Bullion/Metal

but largely linked to London Market)8. Absence of intermediatary institutions in long-term

financing of industry9. Industry had limited access to outside saving/resources.

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1951 to 1990

Moneylenders ruled till 1951. No worth-while Banks at that time. Industries depended upon their own money. 1951 onwards 5 years PLAN commenced.

PVT. SECTORS TO PUBLIC SECTOR – MIXED ECONOMY 1st 5 year PLAN in 1951 – Planned Economic Process. As

part of Alignment of Financial Systems – Priorities laid down by Govt. – Policies.

MAIN Elements of Fin. Organisationsi. Public ownership of Financial Institutionii. Strengthening of Institutional Structureiii. Protection to Investorsiv. Participation in Corporate Managementv. Organisational Deficiencies.

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1951-1990

Nationalization RBI 1948 SBI 1956 (take-over of Imperial Bank of India) LIC 1956 (Merges of over 250 Life Insurance Companies) Banks 1969 (14 major banks with Deposits of over Rs. 50

Crs.nationalised) 1980 (6 more Banks) Insurance 1972 (General Insurance Corp. GIC by New India,

Oriental, united and National.

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POST 1990s

IMPORTANT DEVELOPMENTS

Development Financial Institutions : (DFIs)• Started providing Working Capital also• Set up CREDIT RATING AGENCIES

CRISIL(IPO IN 1993-94; standard & poor acquires 9.68% in 1996-97 S & P acquires shares / holding up to 58.46%)

ICRA Set up in 1991 by leading FIs/Banks/Fin. Ser. Cos. And Moody’s CARE Set-up by IFCI/Banks.

FITCH a 100% subsidiary of FITCH Group.

• Privatisation of DFI Reduction in Govt. holding & Public Participation e.g. IFCI Ltd., IDBI Ltd., ICICI Ltd.• Conversion into Banking / Merger into Banking Companies IDBI Bank & ICICI Bank• Issuance of Bond by DFIs without Govt.’s Guarantees to mobilize resources.• Reduction in holding of Govt. in Banks, i.e. Public Participation / Listing

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POST 1990INDUSTRIES• Rise & Growth of Service Sector industries.• Reliance & Dependence on technology.• E-mail & mobile made sea-change in communication, data collection etc.• Computerization – a catch phrase and inevitable need of an hour.• Dependent on Capital Market rather than only Debts dependency.• Scalability of operations through globally competitive size.• Broad basing of Board.• Professional Management.

NBFC• NBFC under RBI governance to finance retail assets and mobilize small/medium

sized savings.• Very large NBFCs are emerging (Shri Ram Transport Finance, Birla, Tata Finance,

Sundaram Finance, Reliance Finance, DLF, Religare etc.

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